Should You Max Out Your 401(k) Contribution?

It doesn’t always make sense to max out your 401(k) contribution. Hoxton/Tom Merton

You’re contributing to your 401(k) regularly, that’s great. But are you contributing enough? Traditional 401(k)s are great because usually you can put money in without paying any tax on that money. Because of that, there’s a limit on how much you can put in every year. If you’re not maxing out the amount you can contribute, you may be wondering if you should do more. The answer is: maybe.

WHAT IS THE MAXIMUM 401(K) CONTRIBUTION, ANYWAY?

In 2017, the maximum 401(k) contribution you can make is $18,000 (or $24,000 if you're over 50). And that amount is going up in 2018. That’s just the amount that you can contribute. So if your company matches, that amount doesn’t count toward this maximum. In total, you and your company can put up to $54,000 each year (that’s going up next year, too).

SO HOW MUCH SHOULD I PUT IN?

It depends. If you make $45,000 a year, all the coupon clipping in the world isn't likely to help you max out your 401(k) and keep your cupboards full. So it’s probably better to save a more reasonable amount.

A good starting point is to look at your employer’s match. If the company you work for offers it, contribute enough to get the most you can out of the match. Not doing so is like walking past a $100 bill lying on the street and telling yourself it's too much work to pick it up. It’s free money.

If your employer has a 401(k) matching program, then you should contribute enough to rake in those matching dollars if you can.

ANYTHING ELSE I SHOULD CONSIDER?

When deciding how much to contribute, look at all your financial priorities. Have credit card debt? Is your emergency fund a piggy bank that contains five quarters? Don't have life or disability insurance to protect your family in case something happens? These are things you should probably take care of before you max out your 401(k) contribution.

You should also consider when you want to retire. Want to quit the workforce at 45 and spend the rest of your days traveling the world drinking sangria? Or maybe you’re fine with packing up your desk at age 70 and lazing in a hammock while you read mystery novels?

If you want the latter, it’s probably okay if you don’t max out your 401(k). If you’re planning to retire early, you probably need to find a way to save every penny possible.

In the end, it all comes down to percentages: If you’re planning to have an average retirement, financial experts typically recommend that you save between 10 percent and 20 percent of your income toward your retirement. That means if you make $50,000 a year, you may not need to max out your 401(k) contribution (because that would be 36 percent of your pay). But if you make $200,000, it's only 9 percent of your salary. So, to save between 10 percent and 20 percent of your income, you might need to max out your 401(k) and then look for other options.

That could include IRAs — which get tax treatment similar to a 401(k) — or investments. Some people even use the cash value of permanent life insurance to supplement retirement income. And there’s no reason you have to max your 401(k) contribution before using other options. You may just want additional options, maybe because you can get better rates or because you want to diversify. The right contribution really comes down to what’s right for you.

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